Question

Select the best answer for each question.

1. In the short run, a firm will shut down if

(a) the market price is less than the firm’s average total cost. (b) the market price is less than the minimum of the firm’s average variable cost. (c) the market price is less than the quantity produced. (d) the market price is less than the number of firms in the market.

2. Suppose a firm in a perfectly competitive market is making positive profits in the short run. What happens in the long run?

(a) Some firms enter the market. (b) Some firms leave the market. (c) No firms will enter or exit the market. (d) We can’t tell whether firms will enter or exit the market.

3. Imagine a competitive industry is in long-run equilibrium. Now, a demand shock increases demand in the market. What happens to the quantity produced by each individual firm in the long run?

(a) Each firm produces less output. (b) Each firm produces more output. (c) Each firm produces the same amount of output. (d) We cannot determine what happens without more information.

4. As the quantity a firm produces increases, the firm’s average fixed costs

(a) increase. (b) decrease. (c) remain constant. (d) could increase, decrease, or remain constant, depending upon the cost function.

5. In the long run, a firm will exit the market if

(a) the market price is less than the minimum of the firm’s average total cost. (b) the market price is less than the quantity the firm produces. (c) the market price is greater than the firm’s average total cost. (d) it makes zero economic profit

Answer 1

Ans) In Perfectly competitive market, there are many sellers selling homogeneous products. The price in Perfectly competitive market is decided by forces of demand and supply.

If price is below ATC, firms will earn negative economic profit and in long run, some firms will exit the market.

If price is above ATC, firms earn positive economic profit and in long run, more firms will enter the market.

In either case, in long run, firms will earn zero economic profit where price is equal to minimum of ATC.

Further, if price is below ATC but above AVC, firms will continue to produce in short run. But if price is even below AVC, firm will shutdown.

1) Option b.

2) Option a.

3) Option b. In response to increase in demand, supply will increase in long run.

4) As fixed cost (numerator) is fixed and quantity (denominator) increases, average fixed cost constantly decreases.

Option b.

5) Firm will exit the market in long run if price is below ATC.

Option a.